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Payment for Order Flow and Option Internalization

Thomas Ernst & Chester S. Spatt

The Review of Financial Studies2026https://doi.org/10.1093/rfs/hhaf108article
FT50UTD24AJG 4*ABDC A*
Weight
0.50

Abstract

Option wholesalers specialize in purchasing and executing against retail option order flow. Orders are internalized via auctions (which provide price improvement) and the limit order book. Designated market makers (DMMs) have a key advantage in internalizing limit order book trades: they obtain the first five contracts of any order they bring to an exchange where they are a DMM. We exploit variation in DMM assignments and allocation rules to highlight how these rules create a barrier to entry in option wholesaling that does not exist for equity wholesaling, protecting wholesaler profits and high option PFOF.

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https://doi.org/https://doi.org/10.1093/rfs/hhaf108

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@article{thomas2026,
  title        = {{Payment for Order Flow and Option Internalization}},
  author       = {Thomas Ernst & Chester S. Spatt},
  journal      = {The Review of Financial Studies},
  year         = {2026},
  doi          = {https://doi.org/https://doi.org/10.1093/rfs/hhaf108},
}

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Payment for Order Flow and Option Internalization

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Evidence weight

0.50

Balanced mode · F 0.40 / M 0.15 / V 0.05 / R 0.40

F · citation impact0.50 × 0.4 = 0.20
M · momentum0.50 × 0.15 = 0.07
V · venue signal0.50 × 0.05 = 0.03
R · text relevance †0.50 × 0.4 = 0.20

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